COVER STORY

Saturday

16

February , 2019

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The 2019 Indian Interim Budget raises the “Is the glass half empty or half full” question. Though the budget has been designed to pacify the majority of Indian voters, the government has neglected many important economic factors. One of them is capital formation.

Capital formation or accumulation is regarded as a key factor in the economic development of a country. The vicious circle of poverty can easily be broken through capital formation. This accelerates the pace of development with fuller utilisation of available resources. It leads to an increase in the size of national employment, income, and output. According to the Economic Survey 2017-18, the total gross capital formation as a percentage of GDP at current market price stood at 33.3% in 2015-16. Capital formation is essential to meet the challenges of a fast growing, globalising, and increasingly middle-class economy.

Expert’s Comments :-

“The 2019 budget being an interim budget, has, expectantly focussed on attracting votes by restructuring the direct tax system and attracting the farmers by direct sops. No long term policy has been envisaged in the budget with a focus on capital generation. In an indirect manner, the tax rebates and sops for middle class and farmers generating additional money in their hands may lead to demand for travel, tourism, real estate and other consumer goods.

The government has kept the target of borrowing from the market, through issuance of bonds, at Rs 7.1 lakh crore in FY20 with a fiscal deficit of 3.4% of GDP. The States have a substantial borrowing as well. This may also indirectly help the bond market and rejuvenate capital market through chain system.

Therefore, rather than a direct focus on the capital generation, one has to be optimistic in finding out the indirect ones.”

“First, the interim budget 2019 has not given any passage to corporate investment as was earlier committed by the present government. This is my prediction that in 2019-20, foreign direct investment will substantially fall and the budget has nothing to rectify that. Investment for machinery components or ancillary products may happen but there is no space for new capital formation.

Secondly, the government did not project any vision for bank assistance for capital formation. Sometimes, the time taking process of disbursing loans in phases creates obstacles for industrial growth. The structure of the corporate bank loan system requires modification. This budget is completely blind on that.

Thirdly, nothing is envisioned to expand the domestic and international markets. There is an urgent need for change in the export and import market policies. Export Promotion Council of India has totally failed to increase the export orientation of our country. India has been failing in competition with China in export scenario and we are far behind China in the expansion of industries.”

Rate of capital formation : The rate of capital formation is the ratio between gross capital formation and gross domestic product at current prices. It indicates the proportion of GDP that can be utilised for its own growth. It can be measured by dividing gross capital formation by GDP.

Low growth rate of capital formation in India : India witnesses a very low rate of capital formation in comparison to countries like China and Japan etc.

Some important reasons for lower rate of capital formation are —

Low per capita income

The people in India have a lower per capita income. Low per capita income leads to low savings which lead to lower rate of capital formation.

Population explosion

In the case of relatively poor countries, not only the volume of population is very high but the rate of growth of population is also significantly greater. This leads to low rate of capital formation.

Vicious circle of poverty

The low capital formation in relatively less developed countries is attributed to the vicious circle of poverty (VCP) which operates in their economies. It is because of VCP that the incomes, savings, investment and productivity of the people remains limited and obstructed.

Habit of not depositing savings in bank

Many people have the habit of hoarding their savings. Such savings are of no use as far as capital formation is concerned.

Inflation

Due to inflationary trend, the prices of commodities go very high and the middle-class finds it difficult to save. That impedes capital formation.

Inadequate communication facilities

The banking and financial facilities are inadequate in India. These inadequacies adversely affect the mobilisation and investment of savings.

Taxation Policy

High level of taxes on property in India affect savings and accumulation of capital adversely. The industrialists and businessmen believe that the level of taxation should be reduced so that people’s capacity to save is improved.

Condition of law and order

The condition of law and order in many parts of the country is not normal. There is no adequate security of life and property in some of the regions and this has discouraged the opening of new industries in those areas. The government’s policy towards labour has also created fear among private investors. Additionally, frequent failures of joint stock companies have made people investment shy.

Insufficient allied facilities and infrastructure

Allied general facilities which motivate and encourage investment are also inadequate in India. The facilities of power, engineering industry, and technical training and public health systems are not up to the desired level. This has restricted the expansion and widening of the market, reduced the productivity of workers and has increased the cost of production in several sectors of the economy in our country.

Inequality between income and wealth

The extreme unequal distribution of income and wealth is an important reason for the relatively low rate of capital formation in India. Measures to improve the rate of capital formation.

In February, 2019, the Monetary Policy Committee (MPC) of the Reserve Bank of India (RBI) cut the repo rate by 25 basis points to 6.25% to boost a slowing economy after a sharp fall in the inflation rate which will reduce the cost of borrowing and simultaneously boost investment.

The Indian government should focus on factors that contribute to capital formation. The government should take care to encourage savings, identify investments, facilitate investment and production, set up more financial institutions in remote areas, undertake policies to ensure equitable distribution of wealth, develop capital markets and provide cheap capital among other things.